Ch. 3: Size of Business Business 9609 - AS Ms.

Saira Ansari

UNIT 1: BUSINESS AND ITS ENVIRONMENT

CHAPTER 3: SIZE OF BUSINESS

Business size:
Businesses vary in size from sole traders with no additional worker to huge multinational
corporations. Small firms offer many benefits for the dynamism of an economy and often receive
special assistance from government. The world’s greatest firms started from very small.

Different methods to measure the business size:

Before we study the different methods, it is important to note that no single method is the best to
measure the size of the business. More than one or two ways should be consider before making a
judgment in this regard. Secondly, comparisons should always be done within the same industry
or same type of businesses. Following are few common methods to measure and compare size of
businesses.
1) Number of Employees
2) Revenue
3) Capital Employed
4) Market capitalization
5) Market Share
6) Other measures could be floor area of business, number of shops.

1) Number of employees:
• Simplest measure and easy to understand.
• The more number of employees the larger the size of the business assumed.
• However, there are also some automated businesses using robots where this could not be
a true measure. So, it is not a feasible measure for capital intensive businesses.
2) Revenue:
• It is total value of sales made by a business in a given period of time.
• Also known as sales turnover.
• Used especially when comparing two businesses of same industry.
• Less effective comparing with different industries.
• This measure is needed to calculate market share.
• Formula to calculate revenue: price per unit x the number of units sold

3) Capital Employed: The total value of all long term finance invested in the business .
• The greater the capital the larger the business is in size.
• However, like revenue it is also use to compare with in same industry otherwise it will be
a misleading factor.
• Formula to calculate it; Fixed assets + Working capital
• It is not a very valid measure in labour intensive businesses

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

4) Market Capitalization: The total market value of a company’s issued shares.

• Can be used only for public limited companies.
• Market capitalization = current share price x total number of shares issued.
• This measure is not stable as share prices vary on daily basis.
5) Market Share:
• It is the sales of a business as a proportion or percentage of total market sales.
• It is a relative measure.
• The higher the market share the larger the business is assumed. However, if the size of
the total market is small, a high market share will not mean a large scale firm.
• Market Share = (total sales of business / total sales of industry) x 100
6) Other measures:
These measures will depend very much on the industry. The number of guest beds or guest
rooms could be used to compare hotel businesses. The number of shops could be used for
retailers. Total floor sales space could also be used to compare retail businesses.

SMALL BUSINESSES:
Small businesses employ few people and have a relatively lower revenue. European Union (EU)
classification of business size are as follows:

Business category Employees Revenue Capital Employed

MEDIUM 51-250 over €10m to €50m over €10m to €34m
SMALL 11-50 over €2m to €10m over €2m to €10m
MICRO 10 OR FEWER up to €2m up to €2m

The role and impacts of small businesses:

• Create employment
• Run by dynamic entrepreneurs with new ideas for consumer goods and services
• Important suppliers to larger businesses.
• Might have lower average costs than larger ones
• They create variety in market with greater choice.
• Can create competition to large firms which enables large firms to avoid over charging
prices and exploiting consumers.
• Supply specialist goods (cater to niche markets)
• In future they will be the large firms HP and The Body Shop are one of these businesses
who grew from very small.

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

Advantages of small businesses Disadvantages of small businesses

Managed and controlled by the owner(s) Limited access to sources of finance

Able to adapt quickly to meet changing Owner has to carry a large burden of
customer needs responsibility
Offer personal service to customers to build Excessive dependence on owner/important
customer loyalty workers for functioning the business
Easy to know each worker Not diversified
Business culture is informal, employees are Few opportunities for economies of scale
well-motivated
Operated with low capital investment

Importance and Role of Small Business in the Economy:

• Generate economic growth
• Amount to up to 90% of all employers, many jobs are dependent on these enterprises
• Estimated that 80% of all new jobs in developing countries are created by small
businesses
• Are innovative and develop new products and services which create competition for
existing companies
• Provide specialist services such as research, technical support, repair and maintenance
facilities
• Undertake functions that the larger business wants to buy in rather than undertake itself

Family Businesses:
• Actively owned and managed by at least two members of the same family.
• Mostly the family that founded the business retains complete ownership of it.

Strengths of family businesses Weaknesses of family businesses

Commitment Succession/continuity problem
Reliability and pride Informality
Knowledge continuity Tradition
Conflict

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

BUSINESS GROWTH:
Business growth is one of the main objectives of the business. Following are some reasons to
pursue growth as an objective:

• Increased profits.
• Increased market share.
• Increased economies of scale.
• Increased power and status of the owners and directors.
• Reduced risk of being a takeover target.

Organic (Internal) Growth: Expansion of business by means of opening new branches, shops
or factories. This is also known as organic growth. It is growth of the business from within, i.e.
without any merger with or take-over of another business. It can avoid problem of excessively
fast growth, which tend to lead to inadequate capital (overtrading).

Inorganic (External) Growth: Business expansion achieved by means of merging with or

taking over anther business, from either the same or a different industry. This is also known as
integration. It leads to rapid expansion.

▪ Merger: An agreement by shareholders and managers of two businesses to bring both

firms together under a common board of directors with shareholders in both business
owning shares in the newly merged business.
▪ Takeover: When a company buys over 50 % of the shares of another company and
becomes the controlling owner of it. It is often referred to as acquisition.

• The different forms of external growth are as follows:

- Horizontal integration
- Forward vertical integration
- Backward vertical integration
- Conglomerate integration

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

Horizontal Integration: Integration with a business within the same industry and at the same
stage of the production process. For example, an integration between raw material suppliers, or
between manufacturers or retailers.

Advantages Disadvantages Impact on stakeholders

Eliminates one competitor Rationalization Less consumer choice and

and increases market share higher prices
and power
Potential economies of scale Customer opposition to less Workers lose job security:
competition and less choice.  Suppliers offer lower
prices to bigger
integrated business.
 Shareholder impact
depends profit rising or
not
 Local communities
face job losses
Rationalizing production, Monopoly investigation
concentrating all output on
one site
Increased power over
suppliers to obtain lower
prices

Vertical Integration: Integration with a business in the same industry but at different stages in
the production process. There are two types of it. Forward vertical integration and backward
vertical integration.

Forward Vertical Integration: Vertical integration with a customer business. For example a
manufacturer with a retailer.

Advantages Disadvantages Impact on stakeholders

Production control and Suspicion of uncompetitive Greater job security

pricing of its own products action and negative consumer
reaction
Secure outlet for products of Lack of experience in a Varied career opportunities.
the business and excluding specific sector of the industry
competitors’ products from
retail outlets.
Lack of competition in the
retail outlet

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

Backward Vertical Integration: Vertical integration with a supplier business. For example
when a manufacturer takes over a supplier.

Advantages Disadvantages Impact on stakeholders

Control over quality, price and Lack of experience of More career opportunities
delivery times of supplies. managing a supplying
company
Joint research and Supplying business may Improved quality and more
development become complacent innovative products

Control supplies of materials Control over supplies limits

to competitors Competition/choice for
consumers.

Rise in profit

Conglomerate Integration: Integration with a business in a different industry

Advantages Disadvantages Impact on stakeholders

Diversity Lack of management More career opportunities.

experience
Less risk and faster-growing Lack of clear focus and More job security
business direction
Rise in profit

Objectives of merger or takeover: To achieve synergy

▪ Synergy: Literally means that whole is greater than sum of parts. So in integration, it is
often assumed that the new larger business will be more successful than the two formerly
separate businesses were. Integration is done with an objective of having synergy;
however, it is not easily achieved as there are problems related to a rapidly growing
business.
▪ Integrated businesses share research facilities and pool ideas that achieve better results.
▪ Economies of operating a larger scale of business
▪ Cut average costs and increase efficiency
▪ Lesser marketing costs and distribution costs
▪ Rationalization of property and other assets

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

Failure of merger or takeover to achieve objectives:

▪ Integrated firm is too big to manage and control effectively
▪ Diseconomy of scale.
▪ Different business and management culture
▪ Little benefit from combined research departments or marketing/distribution facilities
▪ Extremely rapid rate of growth difficult to manage

Problems of growth through mergers/ Possible strategies to overcome problems

takeovers
Financial: Financial:
 Very costly  Internal sources of finance used
 Additional fixed capital/ working  Raise finance from share issues
capital is required  Payment of takeover through shares
 Leads to negative cash flow
 Increase in long-term loans/ interest
payments
Managerial: Managerial:
 Management incapable of controlling  New management systems/ structures
doubled operations required
 Lack of coordination  Decentralization policy
 Culture clash  New management culture required

Joint Ventures and Strategic Alliances:

• Joint Venture: Two or more businesses agree to work closely together on a particular
project and create a separate business to do so.
• Strategic Alliances: A form of external growth that does not involve complete integration
or changes in ownership.
• Can be made between a wide variety of businesses/organizations:
- University
- Supplier
- Competitor
• Once the objective of the alliance is achieved, it is ended.

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

ACTIVITY 1:
Starbucks confirms rapid growth strategy
Starbucks plans to open at least 10 000 new cafés over the next four years by using organic
growth. China is the main focus of this growth strategy. The US giant opened its first Chinese
branch in 1999 and now has 4 000 outlets there. The opportunity in China results from its rapidly
growing middle class. High-income consumers are expected to double in the next four years to
600 million. This rising middle class has a taste for Western culture, which is one reason why
Starbucks does not integrate with local café businesses.
This rapid internal expansion has not been without problems. Consumer Reports magazine
recently ranked McDonald’s coffee ahead of that of Starbucks, saying it tastes better and costs
less. The timesaving policy of designing stores uniformly rather than with some local decoration
has been criticized. It is claimed that Starbucks charges high prices to Chinese consumers. The
company responded by stating that operating costs were higher than in some other countries and
high investment in China had to be paid for.
Starbucks has a strategic alliance with another giant food business, Nestlé. This Swiss-based
company has the right to distribute Starbucks products to retailers worldwide to take advantage
of the booming drink-at home coffee market.

Q. Explain the benefits to Starbucks and Nestlé of their strategic alliance.

Q. Analyze the likely benefits to Starbucks of aiming for rapid growth in China.
Q. Evaluate Starbucks’ strategy of organic growth in China rather than integrating with a chain
of Chinese cafés. Explain your answer.

Answers to Activity:

1. Starbucks operates cafés around the world whereas Nestlé is one of the world’s largest food
and beverage companies. Starbucks will benefit from Nestlé’s established distribution network
and global reach. This will reduce costs to Starbucks of selling its products in the booming drink-
at-home coffee market. Nestlé will benefit from an increase in sales, strengthening its position in
the coffee market. The alliance will also capitalise on the experience and capabilities of both
companies. This could increase innovation and enhance the products offered to customers. These
benefits will deliver long-term value for shareholders.

2. Learners’ answers might include:

• To take advantage of economies of scale, which will reduce unit costs and therefore potentially
increase profit margins.
• China has a rapidly growing middle class, with high-income consumers set to double within
four years. Therefore, Starbucks may benefit from increasing sales and profit.
• Rapid growth will enable Starbucks to gain first-mover advantage in the Chinese market and
prevent competitors from developing brand loyalty. Therefore, Starbucks can capture a high
market share.
• To gain market leadership through achieving high market share.
• The cost of opening new cafés in China may increase significantly in the future due to rapid
economic growth. Slower expansion may allow other firms the opportunity to dominate the
Chinese market.

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

3. Organic growth is internal growth rather than growth through merger or takeover of a chain of
Chinese cafés.

Advantages
• Control over quality to protect the brand image of Starbucks.
• Chinese consumers are demanding Western products and culture so will be attracted to the
Starbucks brand. Integration with a chain of Chinese cafés could dilute the brand and result in
lower sales and profit.
• Difficulty of integrating Chinese cafés into the Starbucks group. A culture clash could prevent
change being introduced successfully.

Disadvantages
• Increased capital cost of expansion. Investment costs are high.
• Slower growth of sales for Starbucks.
• Difficulty of controlling the expansion. For example, the ‘time-saving policy of designing
stores uniformly’ has been criticised. In the long term, this may affect Starbucks’ brand image
negatively as store designs may not meet local needs. There has also been a problem with
product quality; Consumer Reports magazine has ranked McDonald’s coffee ahead of Starbucks.

Evaluation: An overall assessment may consider the availability and cost of finance for
expansion to be a critical factor. Ten thousand new cafés represents nearly seven cafés being
opened every day for the next four years.

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Ch. 3: Size of Business Business 9609 - AS Ms. Saira Ansari

PAST PAPER QUESTIONS FOR PRACTICE (P1)

1. (a) Analyze the role of small businesses in a country’s economy. [8] (M/J 2021/P11)
2. (a) Analyze the advantages of using different methods to measure the size of a business.
[8] (March 2020/p12)
3. (a) Analyze the impact of small businesses on the development of a country. [8] (M/J
2019/P13)
4. (b) Discuss the most important factors that could influence the success of a small
business manufacturing highly priced ‘designer’ handbags. [12] (O/N 2018/ P13)
5. Briefly explain two reasons why many businesses set growth as an objective. [3] (O/N
15/P13/Q1/b)
6. Define the term ‘internal growth’. [2] (O/N 15/P13/Q1/a)
7. Explain why small businesses are important for many economies. [5] (O/N 15/P12/Q3)
8. Explain the weaknesses of family owned businesses. [8] (O/N 14/P11/Q7/a)
9. Briefly explain two advantages (other than limited liability) a private limited company
has over a sole trader. [3] (O/N 12/P11/Q1/b)
10. Define the term ‘limited liability’. [2] (O/N 12/P11/Q1/a)
11. Discuss internal growth as a way of expanding business. [12] (M/J 12/P13/Q5/b)
12. Discuss the factors that could influence the success of a small business. [12] (M/J
12/P12/Q5/b)
13. Discuss the importance of small businesses to the economy of your country. [12] (M/J
12/P11/Q5/b)
14. Explain two objectives a small business might have in the first year of trading. [3] (O/N
11/P12/Q4/b)
15. Explain the strengths and weaknesses of small businesses. [8] (M/J 11/P13/Q5/a)
16. State two aims of social enterprise organization. [2] (M/J 12/P11/Q1/a)
17. Explain why many businesses fail within the first year of trading. [5] (M/J 11/P13/Q3)
18. Describe two methods for measuring the size of a business. [3] (M/J 11/P11/Q1/b)

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